Moneyball without the ball

Posts tagged ‘vicor’

Portfolio Performance

Thoughts and Review

I haven’t written a post since my last portfolio update. Up until this last week I did not add a new stock to my portfolio. I have sold some stocks though. Quite a few stocks really.

I have been cautious all year and this has been painful to my portfolio. While the market has risen my portfolio has lagged. I have lagged even more in my actual portfolio, where I have had index shorts on to hedge my position and those have done miserably until the last couple of weeks. In fact these last couple of weeks are the first in some time where I actually did better than the market.

My concerns this year have been about two headwinds. Quantitative tightening and trade.

Maybe its being a Canadian that has made me particularly nervous about the consequences of Trump’s protectionism. With NAFTA resolved I don’t have to worry as much about the local consequences. But I still worry about how the broad protectionist agenda will evolve.

I continue to think that the trade war between the United States and China will not resolve itself without more pain. The US leadership does not strike me as one open to compromise. Consider the following observations:

Peter Navarro has written 3 books about China. One is called “Death by China”, another is called “Crouching Tiger: What China’s Militarism Means for the World” and the third is called “The Coming China Wars”.

In the Amazon description of Death by China it says: “China’s emboldened military is racing towards head-on confrontation with the U.S”. In the later book, Crouching Tiger, the description says “the book stresses the importance of maintaining US military strength and preparedness and strengthening alliances, while warning against a complacent optimism that relies on economic engagement, negotiations, and nuclear deterrence to ensure peace.”. The Coming China Wars, his earliest book (written in 2008), notes “China’s dramatic military expansion and the rising threat of a “hot war”.

Here’s another example. Mike Pence spoke about China relations last week at the Hudson Institute. Listening to the speech, it appeared to me to be much more about military advances and the military threat that China poses than about trade. The trade issues are discussed in the context of how they have led to China’s rise, with particular emphasis on their military expansion.

John Bolton’s comments on China are always among the most hawkish. Most recently he spoke about China on a radio talk show. Trade was part of what he said, but he focused as much if not more on the Chinese behavior in the South China Sea and how the time is now to stand up to them along those borders.

Honestly when I listen to the rhetoric I have to wonder: Are we sure this is actually about trade?

Is it any coincidence that what the US is asking for is somewhat vague? Reduce the trade deficit. Open up Chinese markets. Less forced technology transfer (ie. theft). Now currency devaluation is part of the discussion.

I hope that this is just a ramp up in rhetoric like what we saw with Canada and Mexico. That the US is trying to assert a negotiating position before going to the table and reaching some sort of benign arrangement. But I’m not convinced that’s all that is going on.

If this has more to do with pushing China to the brink, then that’s not going to be good for stocks.

I can’t see China backing down.

From what I’ve read China can’t possibly reduce the trade deficit by $200 billion as the US wants without creating a major disruption in their economy. Never mind the credibility they would lose in the face of their own population.

Meanwhile quantitative tightening continues, which is a whole other subject that gives me even more pause for concern, especially among the tiny little liquidity driven micro-caps that I like to invest in.

I hope this all ends well. But I just don’t like how this feels to me. I don’t want to own too many stocks right now. And I’m not just saying that because of last week. I have been positioned conservatively for months. It’s hurt my performance. But I don’t feel comfortable changing tact here.

Here’s what I sold, a few comments on what I’ve held, and a mention of the two stocks I bought.

What I sold

I don’t know if I would have sold RumbleOn if I hadn’t been so concerned about the market. I still think that in the medium term the stock does well. But it was $10+, having already shown the propensity to dip dramatically and suddenly (it had fallen from $10 to $8 in September once already), and having noted that Carvana had already rolled over in early September, I decided to bail at least for the time being. Finally there was site inventory turnover, which if you watch daily appeared to have slowed since mid-September. Add all those things up and it just didn’t feel like something I wanted to hold through earnings.

I was late selling Precision Therapeutics because I was on vacation and didn’t actually read the 10-Q until mid-September. That cost me about 20% on the stock. I wrote a little about this in the comment section but here is what has happened in my opinion. On August 14th the company filed its 10-Q. In the 10-Q on page 14 it appears to me to say that note conversion of the Helomics debt will result in 23.7 million shares of Precision stock being issued. This is pretty different than the June 28th press release, where it said that the $7.6 million in Helomics promissory notes would be exchanged with $1 shares. Coincidentally (or not) the stock began to sell off since pretty much that day.

Now I don’t know if I’m just not reading the 10-Q right. Maybe I don’t understand the language. But this spooked me. It didn’t help that I emailed both IR and Carl Schwartz directly and never heard back. So I decided that A. I don’t know what is going here, B. the terms seemed to have changed and C. it’s not for the better. So I’m out.

I decided to sell R1 RCM after digging back into the financial model. I came to the conclusion that this is just not a stock I want to hold through a market downturn. You have to remember there is a lot of convertible stock because of the deal they made with Ascension. After you account for the conversion of the convertible debt and all the warrants outstanding there are about 250 million shares outstanding. At $9.30, where I sold it, that means the EV is about $2.33 billion. When I ran the numbers on their 2020 forecast, assuming $1.25 billion of revenue, 25% gross margins, $100 million SG&A, which is all pretty optimistic, I see EBITDA of $270 million. Their own forecast was $225 – $250 million of EBITDA. That means the stock trades at about 9x EV/EBITDA. That’s not super expensive, but its also not the cheapie it was when I liked the stock at $3 or $4. I have always had some reservations about whether they can actually realize the numbers they are projecting – after all this is a business where they first have to win the business from the hospitals (which they have been very successful at over the last year or so) but then they have to actually turn around the expenses and revenue management at the hospital well enough to be able to make money on it. They weren’t completely-successful at doing that in their prior incarnation. Anyways, I didn’t like the risk, especially in this market so I sold. Note that this is an example of me forgetting to sell a stock in my online tracking portfolio so it still shows that I am holding it in the position list below. I dumped it this week (unfortunately at a lower price!).

I already talked a bit about my struggle and then sale of Aehr Test Systems in the comment section. I didn’t want to be long the stock going into the fourth quarter report. Aehr is pretty transparent. They press release all their big deals. That they hadn’t announced much from July to September and that made it reasonably likely that the quarter would be bad. It was and the stock felll. Now it’s come back. It was actually kind of tempting under $2 but buying semi-equipment in this market makes me a bit nervous so I didn’t bite. Take a look at Ichor and how awful this stock has been. Aehr is a bit different because they are new technology that really isn’t entrenched enough to be in the cycle yet. Nevertheless if they don’t see some orders its not the kind of market that will give them the benefit of the doubt.

BlueLinx. I don’t have a lot to say here. I’m not really sure what I was thinking when I bought this stock in the first place. Owning a building product distributor when it looks like the housing market is rolling over was not one of my finer moments. I sold in late August, then decided to buy it in late September for “an oversold bounce”. Famous last words and I lost a few dollars more. I’m out again, this time for good.

When I bought Overstock back in July I knew I was going to A. keep the position very small and B. have it on a very short leash. I stuck with it when it broke $30 but when it got down to $28 I wasn’t going to hang around. Look, the thing here is that who really knows? Maybe its on the verge of something great? Maybe its a big hoax? Who knows? More than anything else what I liked when I bought it was that it was on the lower end of what was being priced in and the investment from GSR showed some confidence. But with nothing really tangible since then it’s hard to argue with crappy price action in a market that I thought was going to get crappier. So I took my loss and sold.

Thus ends my long and tumultuous relationship with Radcom. I had sold some Radcom in mid-August before my last update primarily because I didn’t like that the stock could never seem to move up and also because I was worried about the second quarter comments and what would happen to the AT&T contract in 2019. I kept the rest but I wish I would have sold it all. In retrospect the stocks behavior was the biggest warning sign. The fact that it couldn’t rise while all cloud/SAAS/networking stocks were having a great time of it was the canary in the coal mine. As soon as the company announced that they were seeing order deferral I sold the rest. I was really quite lucky that for some reason the stock actually went back up above $13 after the news (having fallen some $4-$5 the day before mind you), which let me get out with a somewhat smaller loss. The lesson here is that network equipment providers to telcos are crummy stocks to own.

Finally, I sold Smith Micro. This is a second example where I actually didn’t sell this in the online portfolio until Monday because I didn’t realize I had forgotten to sell it until I put together the portfolio update. But it’s gone now. I wrote a little about this one in the comment section as well. The thing that has nagged me is that the second quarter results weren’t really driven by the Safe & Found app. It was the other products that drove things. That worries me. Again if it wasn’t such a crappy market I’d be more inclined to hold this into earnings and see what they have to say. They could blow everyone away. The stock has actually held up pretty well, which might be saying that. Anyways I’ll wait till the quarter and if it looks super rosy I’ll consider getting back in even if it is at a higher price.

What I held

So I wrote this update Monday and Vicor was supposed to report Thursday. Vicor surprised me (and the market I think) by reporting last night. I’m not going to re-write this, so consider these comments in light of the earnings release.

One stock I want to talk about here is Vicor, which I actually added to in the last few weeks. Vicor has just been terrible since late August. The stock is down 40%. I had a lot of gains wiped out. Nevertheless this is one I’m holding onto.

I listened to the second quarter conference call a couple of more times. It was really quite bullish. In this note from Stifel they mention that Intel Xeon processor shipments were up significantly in the first 4 weeks of the third quarter compared to the second quarter. They also mention automotive, AI, cloud data centers and edge computing as secular trends that are babies being thrown out with the bath. These are the areas where Vicor is growing right now (Vicor described their core areas on the last call as being: “AI applications including cloud computing, autonomous driving, 5G mobility, and robots”).

Vicor just started shipping their MCM solutions for power on package applications with high ampere GPUs in the second quarter. They had record volume for some of their 48V to point of load products that go to 48V data center build outs and a broader acceptance by data center players to embrace a 48V data center. There’s an emerging area of AC-DC conversion from an AC source to a 48V bus. John Dillon, who is a bit of a guru on Vicor, wrote a SeekingAlpha piece on them today.

I know the stock isn’t particularly cheap on backward looking measures. But its not that expensive if the recent growth can be extrapolated. I’m on the mind it can. Vicor reports on Thursday. So I’ll know soon enough.

The second stock I added to was Liqtech. I’ve done a lot of work on the IMO 2020 regulation change and I think Liqtech is extremely well positioned for it. When the company announced that they had secured a framework agreement with another large scrubber manufacturers and the stock subsequently sold off to the $1.50s, I added to my position.

I’m confident that the new agreement they signed was with Wartsila. Apart from Wartsila being the largest scrubber manufacturer, what makes this agreement particularly bullish is that Wartsila makes its own centrifuges. Centrifuges are the competition to Liqtech’s silicon carbide filter. If Wartsila is willing to hitch their wagon to Liqtech, it tells me that CEO Sune Matheson is not just tooting his horn when he says that Liqtech has the superior product. I’ve already gone through the numbers of what the potential is for Liqtech in this post. The deal with Wartsila only makes it more likely that they hit or even exceed these expectations.

Last Thought

I took tiny positions in three stocks. One is a small electric motor and compressor manufacturer called UQM Technologies. The second is a shipping company called Grindrod (there is a SeekingAlpha article on them here). The third is Advantage Oil and Gas. All of these positions are extremely small (<1%). If I decide to stick with any of them I will write more details later.

Portfolio Composition

Portfolio Performance

Thoughts and Review

I’ve been slow on the updates. This is the second time in a row that its been 8 weeks between them.

I’m slow because my portfolio has been slow. I still have a high cash level. I took advantage of the stock decline in February, but not enough to have much of an impact on my results. Since then I sold down a few positions and so I’m back to a high cash level.

In addition I took a position in Sonoma Pharmaceuticals and Foresight Autonomous.

I’ve got something written up about Sonoma that I will put out in a couple of days, so I’m not going to talk about them right now.

Foresight Autonomous

My position in Foresight Autonomous is small (less than 1%), so I’ll just mention the thesis briefly.

The company is developing automobile detection systems (called advanced driver automation systems or ADAS). They have had successful trials with Uniti Sweden, and three successful pilots with Chinese companies.

The stock trades at a $110 million market capitalization. That’s not really cheap but I think the potential here is significant if they can land a deal with a large car companies.

Foresight also has a 35% interest in Rail Vision. Rail Vision provides detection systems for rail systems. Rail Vision was looking to IPO last fall at a $100 million valuation.

Worth noting is that this article said that Foresight’s technology has tested better than Mobileye. Mobileye was bought out for $15 billion.

Good News from existing positions

While my portfolio has only benefited at the margins, there were a number of positive news events over the last couple of months that do bode well for the stocks I own.

Vicor gave a very positive outlook on their fourth quarter conference call. They are making progress on the 48V servers, automotive and high end power on package applications. It seems very likely that they are working with a large FPGA producer (maybe Nvidia?) for high end power converters on the the chips.

Gran Colombia is doing very well at both of their mines. They provided a February update on Tuesday. They are on track to do more than 200,000 ounces if they can keep up the mining rate from the first two months of the year.

The next day the company amended terms to the debt exchange deal. The 2018 debentures will be redeemed, not refinanced. It means more shares and less debt.

The amendment doesn’t change my opinion on the stock. With the new terms they will have about $95 million of debt and 54 million shares outstanding. It doesn’t really impact the enterprise value much, with less debt there is somewhat less leverage to the price of gold but also less interest charges.

DropCarannounced they are going to be doing maintenance and cleaning on the Zipcar fleet (transport,prep, cleaning, maintenance) in New York City.

The stock only moved a little on the news but it seems pretty significant to me. Zip Car has 3,000 cars in NYC according to their website.

While I’m not sure how b2b revenues on a per car basis compare to the consumer business, 3,000 cars is a lot of cars. Compare this to the 1,500 consumer clients they have right now.

The only question is what sort of revenues do they get on a per car basis for the B2B business? I need a bit more detail from the company on this. I suspect there are a lot of investors feeling the same way.

I wasn’t thrilled to see the $6 million private placement. It conveniently gets Alpha Capital Anstalt their position back without breaching the 10% rule (its a convertible preferred sale). But I still think the business could have legs. The recent Zipcar deal suggests that is the case. So I’ll hold on.

Precision Therapeutics (formerly Skyline Medical) has been announcing all sorts of news with respect to its Helomics joint venture.

I honestly don’t know what to make of this. I bought the stock because it looked like Streamway sales were going to launch, but all the news is about precision medicine, which is maybe (??) a bigger deal, but I don’t really know.

Some have pointed to Helomics revenue being in the $8 million range (which I’m not sure if it is), and that Helomics has spent over $50 million in research over the past 5 years (which appears to be the case based on the past capital raises). If either of these points are accurate then Helomics is potentially more valuable than the single digit million valuation that Precision paid for the first 25%.

But I’m not going to lie, I don’t really understand the precision medicine area very well.

If anything, the company seems to be prioritizing the precision medicine business and I would think, given that the Streamway business is not profitable, that would put Streamway on the block. If I’m right about the value in Streamway, then my original reason for buying the stock will work out, and maybe even sooner than I had hoped.

R1 RCMreported fourth quarter results at the beginning of March. They see revenue at $850-$900 million in 2018 versus $375 million of revenue in 2017. They are expecting adjusted EBITDA of $50-$55 million this coming year.

In 2020 once the onboarding of Ascension is complete the company expects $200 million to $250 million of EBITDA. At $7.70, which is after the big move over the last month, that puts them at a little under 7x EBITDA. That’s still not super expensive and the path to get there seems straightforward so I’m holding on for now.

Gold stocks suck right now but I am adding. In addition to Gran Colombia, I’ve added positions in Roxgold and Golden Star Resources this week. Neither is reflected in my portfolio below, which is as of the end of last week. Taken collectively, gold is my largest position right now.

My thought is simply that this trade war stuff seems to be real and and getting more so, and how is that not bullish gold and gold stocks? Meanwhile I am picking these stocks up at discounts to where they were 6-12 months ago. And we just had the takeover of Klondex at a pretty fair valuation. It seems like a decent set-up.

I sold Essential Energy this week (this was after the portfolio date so its still in the list of stocks below). I listened to their fourth quarter conference call. Its hard to get excited about their prospects. Drilling activity in Canada just isn’t coming back. I’m going to stick with names like Cathedral and Aveda that have more US exposure.

I also sold Medicure this week after the news that Prexarrtan won’t be launching on the original time line. I may be jumping the gun, after all Medicure has 3 other drug launches in the next year or so. But Prexarrtan was the first and without it I don’t see much of a catalyst for the stock in the near term.

Portfolio Composition

Click here for the last eight weeks of trades. NOTE: I didn’t go back far enough in my trade search. These are the trades from Jan 15th to Jan 29th that I had previously missed.

The long wait for Vicor to post a step change in results is over. With the release of the fourth quarter there was an end to the delays and they put out some solid concrete numbers. To be sure, the fourth quarter itself was not very good (this was expected), but guidance and color around what to expect next quarter and beyond was very positive.

Here’s a summary

Backlog at the end of the fourth quarter sat at $73 million compared to $60 million at the end of the third quarter

Bookings grew 11% sequentially to $71 million

Bookings thus far in the first quarter were $55 million (through 8 weeks of a 13 week quarter)

They expect sequential bookings improvement throughout the year

As is typically the case, Vicor gave hard data on the next quarter but you had to piece together the long-term picture from circumstantial evidence and color. This quarter we got to extrapolate from their comments on facility expansion.

Vicor has a 240,000 sq. ft. facility in Andover, MA. They said on past calls that they can produce $400-$600 million of revenue from Andover. In the fourth quarter updated/reiterated that this number at $500 million.

In the past Vicor has talked about adding capacity by purchasing or leasing additional space nearby. From the second quarter call:

…we’re also actively looking for incremental space nearby, not far away from the Andover facility, to further expand capacity in about 1-year time frame

On the third quarter call they hinted that this plan might be evolving as they were leaning towards building their own facility. Last week they confirmed this was the case, and in the process gave us a hint about where revenue might eventually go:

…we’ve had a change of plans regarding that. What we concluded after investigating certain options in the neighborhood of our existing Federal Street facility is that a building of the order of 80,000 to 100,000 square feet would not serve our long-term needs. So we were able to secure a deal with a partner to help our short-term capacity requirements to give us some breathing room for breaking ground on larger lot with considerably more room for expansion. So we’re looking at options for as much as 250,000 square feet, which would be equivalent in terms of capacity to our Federal Street building.

So the circumstantial evidence that we got is that while they have a $500-$600 million revenue facility, they have decided to forego a 100,000 square foot addition via an existing nearby building in favor of building another $500-$600 million facility. They are taking this course of action because they think they would outgrow the smaller facility.

Conclusion

The reason I have been in Vicor is because of the potential for big revenues as they ramp product for 48V servers, for automotive, and for high-end FPGA’s that utilize power on package technology. They have always been vague about how big these opportunities might be. With the fourth quarter results we started to get some sense of that size.

To be honest, the opportunity needs to be big, because the stock isn’t particularly cheap. At a $27 share price the enterprise value is about $1 billion. Trailing twelve month revenue is $227 million and EBITDA is non-existent.

Looking forward, if we get 50% growth in 2018 and if gross margins improve to 50%, I estimate that EBITDA should be around $70 million if most of the gross margin falls to the bottom line. That gives Vicor a 13.5x EBITDA multiple.

Vicor starts to look cheap if you think they can get to $500 million plus of revenue. Again, assuming a modest increase to operating expenses (I’m guessing $140 million annualized), and an uptick in gross margins to 52%, I come up with $135 million of EBITDA, which would give Vicor a forward multiple of 7.5x.

Of course if you start factoring in the second facility, you are looking at $1 billion plus revenue and then the stock clearly has further to run.

So that’s the potential trajectory. It’s actually always been the big picture that I have hoped would play out. With the fourth quarter numbers and first quarter guidance, that picture is a little less presumed and a little more expected. Its still a long way from being a sure thing, but its moving in the right direction. And that’s why you have gotten the move in the stock that you have.

I’ve owned Vicor for over a year. During that time I’ve been twiddling my thumbs waiting for the promised revenue ramp. It looks like it’s almost upon us.

The company had a bad fourth quarter: revenues down sequentially from $53 million to $48 million, gross margins down sequentially 17%, negative EBITDA. But as the stock price attests, none of this matters because guidance and color around the VR13 ramp was excellent.

The story going forward is simple. The company says that with recent design wins and product launches, in particular wins for new data centers that will utilize the VR13 standard (more on that in a second), as well as high performance computing, automotive and defense, they can grow revenue 3-5x in the next couple of years.

Here’s what’s happened between now and then:

3 quarters of delays in the Skylake Intel chip necessary for the VR13 standard to take off and with that for Vicor to capitalize on its design wins (I’d recommend going back to read my previous post to get the details on the VR13 chip and Vicor’s integration with it), and

the Skylake chip is finally available (at least in pre-production) and fourth quarter suggests a turn is upon us as Vicor has started to ship power converters for VR13 design wins.

The company said on the fourth quarter call that they had “began to ship the VR13 version of [their] 48V point-of-load solution” and that shipments of the VR13 solutions would “ramp more steeply” in the second quarter. Shipments for the 48V point of load solution increased 15% sequentially in the fourth quarter and the 1 year backlog would had risen 14.8% sequentially. They expected at least 10% sequential revenue improvement in the first quarter.

With the story on the verge of happening, the questions become A. what’s the end game and B. is there enough upside in the stock left. Keep in mind that even though we are only starting to see the story blossom, the stock is 50+% higher than when I first bought it.

I’m not much into detailed modelling. I do some models, but they are pretty half-ass compared to what you will see from professional research. I don’t have a lot of time, and I find that I am better hedging my uncertainty with position sizes and stops then pretending that I can put together an accurate model that I can rely on.

I make a model to get one or two basic answers. At what growth rate does this company get profitable or at what growth rate does the current stock price start to look cheap?

It was the second question that I needed to answer with Vicor.

I would call Vicor a modeling play. It seems reasonably clear that revenue is going to ramp. Its just a question of how quickly and by how much. The end game is that they reach their objective of 3x revenue in the next 3 years.

Here’s the model. It’s the same model I put out a year ago, tweaked for current run rate expenses and guidance. I’m not trying to model 2017. I’m looking ahead at what the company is saying they can do with revenues as the VR13 data center opportunity ramps to its full capacity.

I’m accepting management’s comments that operating expenses are dominated by headcount, that they don’t expect this to scale with the top line increases, and that most of top line growth will drop to the bottom line. I’m also assuming that management’s assertion that gross margins can transition to the low 50%’s by the end of 2017 is correct. And my long-term target is a little over 2x revenue, not 3x revenue.

The stock price doesn’t look too bad after considering that there is this kind of upside. I almost never buy options, but I decided to buy a few October calls on Vicor. It seems like a reasonable situation for it. The ramp is going to happen in the next 6 months. The potential numbers that are materializing should be pretty clear by the fall. If this is going to play out like Vicor says it will, its going to be clear shortly. I hope they’re right.

Portfolio Performance

See the end of the post for the current make up of my portfolio and the last four weeks of trades

Thoughts and Review

The market was up and so not surprisingly I had much better performance in the last month. Even so, I performed better than I might have expected given just how much uninvested cash I have sitting around.

It just goes to show how much of a drag the losers have been. I’ve had my share of winners in the last year, but my performance has been flat because I also had a bunch of crappy losers.

It would be one thing if I couldn’t distinguish between the winners and losers ahead of time. But when I look back at what has cost me over the last year, it has been pretty predictable; stocks where I am stretching for a trade, stocks where the value wasn’t clear, or stocks where my primary motivation was their attractive yield.

I’m going to make a concerted effort to prefer cash to those positions going forward.

In the last month I haven’t been actively looking at stocks. I’ve been surprised by how quickly the market has bounced back and I remain skeptical that it can continue. So with the exception of a couple of opportunities that I will describe below, I am will remain holding a high cash position until I see a reason to believe the market will sustain a move higher.

Takeovers!

I went a long time without a takeover and then in the matter of 6 weeks I got 3 of them. First, both of my gold stock picks, Lake Shore Gold and Claude Resources, were taken over. I bought Lake Shore at $1.12 and, after the takeover offer from Tahoe Resources to exchange each share of Lake Shore for 0.1467 shares of Tahoe, the stock now trades at a little under $2. I bought Claude at 76c. Silver Standard Resources made an offer of 0.185 shares for every share of Claude. At the time of the offer this amounted to $1.65. I’ve sold some of each position and so have reduced stakes in both. They have been solid performers and I am not unhappy.

A few days after the Claude Resources news my long held fiber-to-the-home play, Axia NetMedia, got scooped up by a private equity firm, Partners Group. While I was happy to see a quick takeover of both of my gold stock positions, I was more divided by the news from Axia.

The problem is that the opportunity at Axia is much greater than the $4.25 takeover offer. The company has a massive build out on its horizon in both France and Alberta. Its becoming clear that fiber-to-the-home is not just a “higher speed-nice-to-have” but a necessary conduit to access all forms of media. Axia’s cash flow stream once this build-out is complete will far exceed the price paid by Partners Group.

The problem is getting from here to there. As Axia outlined on their last conference call, the capital necessary to realize the growth is a stumbling block for a $200 million Canadian company. Axia warned on their last call that they were evaluating alternatives; that they would try to raise capital and if not consider offers by a larger entity with greater access to capital. Partners Equity is a $50 billion investment management firm. The only reason that a firm that large bothers with a takeover this small (Axia was a $200 million market capitalization before the offer and under $300 million at $4.25) is because they see significant upside.

Radisys, Radcom, Willden, and what the Market Misses

I’ve made a number of mistakes over the last couple of months but one thing I have done right is add to my positions in Radcom and Radisys in the face of market weakness.

Radisys has had a big move in the last month, moving as high as $4 from $2.50 in January. I have added to my position on the way up.

The Radisys move over the last couple of weeks has been instructive. Consider that during the fourth quarter conference call the company announced a large contract from a Tier I customer (from this transcript):

And finally, and maybe most important in this release is, we secured orders totaling approximately $19 million, the majority of which is contained in deferred revenue at year-end for our new data center product targeted at telecom and cable operators which we expect to launch more broadly in the coming months.

The stock moved a little but nothing that couldn’t be explained by what were decent quarterly results.

About three weeks later Radisys officially announced the product, DCEngine, with this press release, along with the name, details and comments from the Tier 1 customer, Verizon.

“As Verizon introduces open, flexible technology that paves the way for central office transformation, we look to companies like Radisys to assist us in that journey,” said Damascene Joachimpillai, architect, cloud hardware, network and security, Verizon Labs. “Network modernization will rely on solutions such as DCEngine that meet service provider needs with open source hardware and software technologies.”

The stock has moved straight up since this press release.

I think this demonstrates how poorly small cap companies like Radisys are followed and how slow the market can be to react to positive developments. While I find it easy to second guess myself when what I construe as good news in announced and the stock doesn’t move, it is worth reminding myself that this isn’t always an indicator of importance.

With that in mind consider the following situations, Radcom and Willdan Group, two stocks I have had in my portfolio for some time, and Vicor and DSP Group, two new positions that I have added. I believe all four of these situations represent similar “hidden in plain sight” opportunities.

Radcom

First, Radcom. Radcom announced in early January that they had signed a contract with a Tier I customer for their next generation service assurance solution MaverIQ. There wasn’t a lot of details provided, only that the initial phase of the contract would be completed mostly in 2016, and was worth about $18 million.

On their fourth quarter conference call in mid February the company gave more color. They said the contract for NFV deployment was much bigger than the $18 million announced. I’m pretty sure its with AT&T.

While they declined from giving guidance (historically the company has given virtually no guidance in the past so this was no surprise) they were willing to say that they expected their cash level to increase to $20 million from current $9 million by end of the first half of 2016, and that the increase in cash would be due to new revenue and not deferred payments.

They also gave an indication of just how big the deal with AT&T might be (my bold):

We just said that we received an $18 million initial deal out of a bigger deal. There is – it’s a large transformation, so it’s not – I think when you’re envisioning it, so I’m going to try to help you model it, right. So when you’re envisioning it, envision something between 2.5 to three year evolution for the very significant portion of the transformation, okay. It doesn’t mean that everything stops after three years, but envision that over the course of those three years, that number $18 million that we’ve disclosed is just an initial number out of something bigger, that’s bigger than that. And I can’t disclose the accurate numbers here. There is things that it depends on. There is – it’s more complicated just throwing other number out there, but it’s much bigger than $18 million, okay.

In addition they made it clear that they are ahead of the competition, witnessed by their comments about Netscout on the call. They are in the process of trials with other Tier 1 customers and believe that the next-gen service assurance market will be a “winner takes most” market where they can take the most.

Radcom is a $130 million market cap company. They just said they can generate $10 million of free cash in the first half of 2016, that the contract they have announced is actually much larger than the announced number, and that they have a product that is significantly better than the competition.

If Radcom can win a couple more contracts in the next year the stock should trade significantly higher than it is now. it probably gets bought out at some point. In the mean time I think its quite a good growth story. The market is really not paying a lot of attention to the “color” provided on the conference calls, and instead is focused on the rather puny revenue that the company generated in 2015 ($18.6 million) and the rather lofty valuation for the stock if you use that backward looking measure.

Willdan Group

Update: I got a response from Willdan IR and they say the revenue is not new revenue and is included in guidance. I am still of the mind that this is an expansion of scope though and I am happily holding the position I added that I describe below.

Second example. On their fourth quarter conference call, which I thought was quite positive in terms of the outlook provided for 2016, Willdan stated the following about their ongoing contract with Con-Ed:

We have the extension for 2016 at a value of approximately $33 million. We’re prepared to go beyond this baseline and expect to. The good news is that we continue to perform well for Con Ed and as a result we are in discussions to expand our scope of activity in the second half of 2016 to include more programs targeting customer segments, for example, more of Brooklyn, Queens and larger projects, 100 kW to 300 kW in our SPDI program, the type of programs that will include in the larger retail stores and warehouses and more real estate.

Note that the transcript is incorrectly referring to the SPDI program, which should read SBDI (small business direct install program).

Willdan Group, Inc. (“Willdan”)(WLDN) announced that it has been awarded a one-year, $32.8 million modification from Con Edison to an existing Small Business Direct Install (SBDI) contract. Under the modification, which extends through the end of 2016, Willdan will be delivering approximately 86 million kilowatt-hours in electric energy savings to Con Edison’s small business customers throughout the entire Con Edison service territory. This includes the Bronx, Brooklyn, Queens, Manhattan, Staten Island and Westchester County, New York. Willdan described this forthcoming modification in its recent fourth quarter earnings conference call.

Based on the language used it seems pretty clear to me that the $32.8 million is in addition to the $33 million baseline contract. They talked in the fourth quarter conference call about scope expansion with respect to the SPDI and this is scope expansion to the SPDI.

If I’m right, then the market hasn’t caught onto this yet. Full year guidance is $170-$185 million and so $33 million is significant.

It’s possible I am wrong. Maybe Willdan is just re-releasing old news. I would be surprised though. I have followed the company for some time and their management does not strike me as the sort to throw out a press release with a big number that is a rehash of an already disclosed contract. It just doesn’t strike me as something they would do.

I think its equally possible that this was the Thursday before a long weekend, that there are maybe one or two analysts following the company, and so no one that was around to check the news cared enough to notice it. Yet.

For what its worth I added to my Willdan position significantly. What the heck; I’m buying the stock at the same price I was buying it at a few weeks ago before this announcement anyways. What’s the downside?

DSP Group

I have been watching DSP Group for a couple of years and have owned it once in the past. The previous time I owned it the story was primarily one of valuation. The stock was trading at $7 and the cash and investments on the balance sheet accounted for nearly $6 of that. But there wasn’t a clear story behind the business itself and so I sold the stock after it went a few dollars higher.

In the two years since the story around the company’s business has been evolving for the better. The legacy business that they have, and for which I had a lack of excitement in my first endeavor, is the design and manufacturing of chipsets used in the cordless telephones. It’s profitable and brings in decent free cash, but it’s an industry in decline to the tune of 10-12% annually in recent years.

This business has fallen off the cliff even more in the last couple of quarters. Slower demand and an inventory build has led to 20% plus year over year declines. These declines are expected to moderate back to trend in the second half of the year. However the bad numbers drag down the overall revenue numbers for the company and are hiding some pretty decent growth businesses.

DSP Group has been investing in a number of new technologies that are starting to bear fruit. Lets step through them briefly:

HDClear – they have developed a new technology that will improve voice quality on next generation phones. On the fourth quarter call the company announced that they had a couple of wins and one of the wins was with a Tier I device supplier. Turns out that is Samsung, where it has been designed into the S7. They expect $2 million to $3 million in the first quarter and guided to lower double digit or high single digit revenue for the year. When I look at some of the numbers I wonder whether it could be higher: according to this article from Reuters (here), DSPG should get 70c-$1 for each HDClear chip sold. The Samsung S6 sold over 50 million units last year.

VoIP – their VoIP business unit had $22 million in revenue in 2015. They have guided for 50% growth in 2016.

IoT – Eight OEM’s and three service providers have launched products based on DSPG’s ULE technology. They have a ULE chipset that can be used in home automation, security, remote healthcare or energy management products. They generated $3.8 million of revenue in 2015 and they think that can get to $5 million in 2016.

Home Gateway – Home Gateway generated $14 million in 2015. It is expected to take a step back in the first quarter of 2016 with around $2.5 million of revenue, but this is going to climb as the year progresses and some new product launches, in particular a North American telecom provider.

SparkPA – DSP Group announced a new product, a power amplifier to be used in the high end access point market. They don’t expect any revenues from this business in 2016 but it will ramp in 2017 and they consider the market they are tapping to be over $100 million

The company gave quite a bit of color about the revenue expectations for each of these businesses in 2016 on their fourth quarter conference call. If you add up the expected 2016 revenue from the new businesses alone you get around $57 million. These businesses grew at 35% in 2015 and the company said that in aggregate they expect higher growth in 2016.

When I think about a company with an $80 million enterprise value and $57 million of high growth revenue products, it doesn’t make a lot of sense to me. I understand that overall the company’s revenue is not growing because of the out sized contribution of cordless declines. But this business is profitable and therefore not a drag on the company, in fact it even helps fund the growth.

I think the stock should trade at least at 2x the revenue of its burgeoning new product lines. This would be a 50% upside in the stock. If the growth continues I would expect it to be even higher.

Vicor

I got the idea for Vicor from a friend who emails me regularly and goes by the moniker Soldout. He gave me a second idea some time ago, called Accretive Health, that I didn’t initially buy and has done really poorly for the last half a year but that I added recently and will talk about another time.

As for Vicor, the company has a market capitalization that is a little under $400 million, $60 million of cash on its balance sheet and no debt. The company sells power converters. They offer an array of AC-DC and DC-DC converters that are used in telecom base stations, computers, medical equipment, defense application, and other industries.

Vicor has a history of high-end products and so-so results. Their technological edge goes back to the 80’s, as they were the original inventor of the DC-DC brick converter, a device that allows the power converter to sit on the circuit board, which in turn allowed a single DC voltage to be distributed throughout the system and converted as required to lower voltages. However they haven’t made a significant profit since 2010, and even then it was only 80c per share.

The story going forward is simple. The company says that with recent design wins and product launches, in particular wins for new data centers that will utilize the VR13 standard (more on that in a second), as well as high performance computing, automotive and defense, they can grow revenue 3-5x in the next couple of years. That estimate comes directly from management (from the third quarter call).

I think it’s fair to say that the array of products that have been introduced and the products which are about to be introduced, for which the development cycle has ended and we’re very close to new product introductions, that in the aggregate these products are more than capable of supporting the 3-by-5 revenue growth goal that we had set for ourselves, and with respect to which we suffered delays.

The increases in revenue in 2016 will coincide with the move to the VR13 class of processors made by Intel (known as the Skylake family of processors) and that are used in a number of high end computing applications. These processors require power conversion levels that are easily addressed by Vicor’s high efficiency products. Vicor has already had a number of design wins to be included in VR13 system designs. The move to a VR13 based architecture has been slower than expected though, and the company has pushed back the revenue ramp from originally beginning in early 2016 to now occurring in the second half of the year. The company describes the VR13 opporunity below:

VR13 is a class one processor, it’s a class of processors, and it’s processors that in many respects represent the significance that [inaudible] performance relative to the earlier class, which is VR12.5. Now this can be potentially look confusing because, as you follow Intel’s introductions with respect to the many different flavors of these devices, some of them play in a space where now we do not play, and other ones are targeted in particular to higher-end datacenter, more intensive — computing intensive applications. And those are the ones that are relevant to our revenue opportunity.

Vicor has significantly more design wins for the VR13 product line than they did for VR12.5 (again from the third quarter conference call):

To the extent our footprint with factorized power solutions across applications and customers will increase going from VR12.5 to VR13, this product transition is a mixed bag as it may cause near term softening in demand but should result in substantially greater total revenue as VR13 applications begin to ramp. On a related note, we have started to see significant design wins for our new chip modules as point of load, board mount devices and in chassis mount VIA packages, which validates our expectations of market reception of these products.

Vicor’s technology differentiates them from competitors. For example they have introduced a factorized power 48V architecture that includes components that can step down voltage directly from 48V to 5,3 and 1V without an intermediate 12V stage. I believe they were the first company to come up with this solution and I have only seen one other advertising the capability. Stepping down directly from 48V has higher efficiency and takes up less board space than existing architectures. On the third quarter conference call the company said the following:

In my recent visits to customers in the U.S. and Europe, I confirmed spreading a rising level of interest in our factorized power 48-volt architecture and are now frontend solutions for automotive, datacenters, high-performance computing, and defense [ph] electronics applications among others.

The 48V products are particularly interesting to data center and server applications where power losses due to the intermediate step-down to 12V are undesirable. Google, for one has championed a 48V server solution with a new 48V rack standard. Vicor released a press release describing Google’s initiative:

Patrizio Vinciarelli, President and CEO of Vicor, commented: “By developing its 48V server infrastructure, Google pioneered green data centers. And by promoting an open 48V rack standard, Google is now enabling a reduction in the global cloud electricity footprint.”

The company has been building out their capacity and their existing cost structure can support the anticipated rise in revenue.

So we have significant design wins. We have been working furiously to establish automated manufacturing capacity. There’s been good progress to that end. You know, there’s equipment coming in, factory flaws, have been prepped for it, and we’re going to have a turn now in the very near future in anticipation of volume ramp in Q1 of next year.

If you step through how the numbers would play out and assume that revenues double at some point, a modest increase in SG&A and no improvement in gross margins as revenues ramp, you can see the leverage to earnings that quickly develops. Note that the company has significant net operating losses that will shelter them from tax:

Keep in mind that I’m not trying to exactly predict how earnings will ramp. This is not intended to have the accuracy of a forecast. Its intended to demonstrate the magnitude of the earnings leverage if the company can make good on their expectations.

I have a position in Vicor and expect the stock to move significantly higher if they can realize their revenue expectations.

Tanker Stocks

After watching the tanker stocks dramatically under-perform for the last two months I decided to take a closer look. I concluded that you can attribute the negativity entirely to the order book for Suezmax and VLCC’s over the next couple of years. The slide below is taken from the Euronav September 2015 presentation.

Note that since that time the gross additions for Suezmax have fallen by 3 in 2016 and risen by 15 in 2017, while gross additions have risen by 5 in 2016 and 5 in 2017 for VLCCs.

The rule of thumb on VLCC demand is that every 500,000bbl/d of demand requires about 15 ships. The new ships being added covers somewhere between 1Mbbl/d to 1.5Mbbl/d of additional demand. This seems to be inline with 2016 demand expectations, which I believe are around 1.2Mbbl/d according to the EIA.

Some of the new build activity was likely a rush to procure ships before the introduction costly NOx Tier III compliance requirements which adds an additional $2 million to $3 million to the price of newbuildings (source here)

Adding it all up, this seems like a balanced market to me. But the stock prices of the tanker equities are trading like a dry bulk type oversupply was about to occur. I think the extremely low prices we are seeing in these stocks will be corrected at some point during the year, if for no reason other than the typical rate spikes that we see periodically.

I have taken a basket approach and bought positions in Teekay Tankers, DHT Holdings and Ardmore Shipping. Of all these names I think I like Ardmore Shipping the best because the order book for product tankers, where Ardmore has all of its fleet, is the least concerning but also think that in the $3 range Teekay Tankers seems particularly overdone.

These should be viewed as trades. A move to $5 in Teekay, somewhere in the $11s for Euronav, $6.50 for DHT or $10 for Ardmore and I will cut them loose. All of these price targets are well below where the stocks traded at the beginning of the year. I just don’t think conditions have changed that dramatically to warrant the change in stock price.